M&As in Downturns

Author Sukhendu Pal

M&A in downturns is a risky business, especially in the current downturn since credit markets aren’t functioning normally and financing is still expensive. Cash reserves need to be guarded as a safety net in case the economy remains fragile. Equity markets are depressed, so acquirers and targets alike are wary of stock-based transactions. What’s more, a major deal could distract management from strengthening the core competencies and bring unforeseen hazards.

Like in most sales, when shoppers go bargain hunting believing goods to be cheap, downturns presents rare opportunities for companies to improve their competitive position through M&A. As most shoppers know, when emotions drive their shopping behaviour during the sales, they end up buying goods that they rarely use and add little or no value to their lifestyle. M&A in downturns are no different – companies frequently end up acquiring or partnering with companies which rarely improve their competencies and competitive positions.

Rare opportunities

But, downturns also provide rare opportunity for companies to bolster competencies. It also asks the management the fundamental question: what is the acquisition for? Is an acquisition to get bigger in the hope of gaining market-share? Or is the acquisition to enhance the competencies. Too many companies are unprepared for M&A deals in the downturn. The most important objective of M&A in any economic environment is to help execute a company’s strategy. In a downturn, that strategy will almost certainly focus on strengthening the core business capabilities. Few companies can weather the downturn without solid core capabilities, and M&A can be a valuable tool for enhance them. Our research shows, when companies embark on acquisition to get bigger they rarely capture the intended value. In fact in most cases, they destroy values they already had. They forget that world-class capabilities are not built overnight; they are developed and enhanced over several years and multiple transactions not just from M&A deals in downturns.

Extending through innovation

Some companies emerge from a downturn stronger and higher valued than they were before the economy softened. They defy conventional wisdom and increase their market valuations relative to those of their former peers and thus gain more power to lead their industries. Instead of embarking on bargain hunting, these companies extend their position through innovation, increase spending on R&D during the downturn relative to their followers. Just consider Google and Apple at one end of the spectrum and Microsoft and Nokia at the other end, for example.

Four factors play an increasingly important part in M&A deals in downturns: selection of the right targets to stalk; gaining stakeholders’ approval beforehand; speed of the deal execution and swift post-merger integration.

In sports, the merger of two failing teams rarely produce a champion team – will the merger of two poor performing companied enable them to become a leader in their industry?